Possible bad head gasket
Get one of those cheap USB bore scope cameras for your phone or a laptop. Remove spark plugs. Pressurize the cooling system (autoparts stores will rent/loan the kit). 15-20 PSI should be enough. You don't want to exceed rated pressure too much. I think it's 13PSI for the typical cooling system in these trucks. Look in each cylinder for leakage.
Generally speaking you won't have leakage into the cylinder when it's running. Cylinder pressure will see to that. What you'll have is over-pressurization in the cooling system and the overflow bottle will fill up. One of those combustion-products-in-the-coolant tester kits can also help here, but the one time I used one it was inconclusive, so look for other clues. (My overflow was filling up. No smoke and no other clues were solid. Replaced the head gaskets and problem resolved.)
You can have leakage into/from the oil while it's running though. Milky oil or a sheen in the coolant can identify this happening. You might even be able to detect some dye in the oil if your light is strong enough and the leak is great enough.
Adding dye to the coolant can certainly help find external leaks. Giving the engine a good wash first is highly recommended. Two cans of engine degreaser, the foam type, will get it clean enough to find new leaks.
And, lastly, buying gas from a station with old tanks, or one that doesn't sell a lot of gas, or water in your own tanks, can also bring moisture into your fuel system. IOW, you may be looking at the wrong end of the chain for the weak link.
My personal take, if you're gonna do it, do it right. And I think that is what the OP is saying. He wants to do it right, but wants to do it when he can better afford to do it right. That piston looks bad to me, if it was clean and there was a head gasket leak it might be safe to try and put a new head gasket on it, but I had a head off a Range Rover and I knew the head gasket was blown and I was getting coolant in the oil...Finally when it did give up the ghost, all the pistons still looked clean, so that doesn't give me the warm fuzzies on the pic posted. As mentioned, consider the short/long block and/or how long you expect to keep it. I wish I had kept that Range Rover now, I could have just dropped an engine in. All hindsight now...the plugs don't look too bad, but you will want to replace them and make sure wires are good. Then you're probably gonna want to replace the belts, and don't forget the water pump while you have access...I think we all know this game all too well...

Alan









